The rules of principles

In my 20 years of reporting on myriad events, whether it be a Yankees-Red Sox skirmish, a title fight, an initial public offering or an arraignment, I've been witness to some pretty spirited dialogue. I once saw two reporters actually engage in fisticuffs over whether the biggest marketing dud in history was the money-losing Edsel or New Coke. (My nod would go to the latter, if for nothing else than the exorbitant costs associated with that nuclear soft-drink implosion, and the Park Avenue prices that Edsels fetch these days.)

Recently, I was invited to sit in on a roundtable featuring a 16-person panel composed of members of the accounting, financial, legal, standard-setting and academic arenas who were charged with, essentially, further fueling the debate over rules- vs. principles-based accounting. That's not what they refer to as a slam-dunk in terms of ease of solutions. Actually, it more closely resembled William F. Buckley debating Ralph Nader to try to find common ground.

As one panelist put it, the ebb and flow was like a checklist comparing the Ten Commandments to the Talmud, but following several spirited exchanges over the merits of each, I began to formulate some questions in my own mind over each accounting method.

Does a principles-based accounting system provide a more accurate picture of financial health, as proponents claim, or would it make it more difficult to hold wrongdoers accountable, as critics charge?

One of the key points in this verbal imbroglio touched on whether the rules-based method helped foster the climate that ultimately led to the spate of massive accounting scandals. Yes, accounting rules do basically put the ball in the company's court, giving it a fair amount of latitude, which as most of us know is a root cause of earnings manipulation. In addition, many argue that the current financial reporting maelstrom has come courtesy of the rampant misuse of generally accepted accounting principles. That, unfortunately, has translated into a broad mistrust of company management, not to mention, by proxy, of auditors.

Principles-based standards would place responsibility squarely on the shoulders of management. That would probably eradicate the now-famous management-to-auditor demand: "Show me where it says I can't do it this way."

Another cogent point in the ongoing debate is that the current rules don't easily dovetail overseas, thereby making global convergence rather difficult. Investors, for one, have argued for methods to enable the smooth transportation of capital, regardless of location, and international convergence would make that a whole lot easier.

On the flip side, rules-based enthusiasts claim that toiling under the principles-based standards you would lack a basic model of consistency and therefore find it hard to apply the clichéd apples-to-apples comparison.

Rule-based supporters cite transparency and costs savings as benefits, by arguing (the word "argue" is appearing a lot in this column isn't it?) that a principles-based approach would be more susceptible to manipulation.

Whatever. I'll leave it to far brighter and more experienced minds than mine to determine the future of this ongoing debate.

My point is that, for all the merits of each, the rules vs. principles debate is rendered moot if management and auditors aren't principled about rules or ruled by principles.